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1.

Introduction
1.1

Itroduction to the Industry :

The US toy and game industry is huge and totaled 42 billion in 2008 with
projected growth of 4.6% per year . 52% of this industry is Toys and Games of
which 14.1% is from the doll industry , which we are covering below . See the
illustration in Fig 1.1

Fig 1.1

1.2 Introduction to The New Heritage Doll company


Founded in 1985 by Ingrid Beckwith, The New Heritage Doll company had
generated almost $245 million of Revenue by 2009 with an operating profit 27
million from its 3 divisions: production, retailing and licensing.
In September 2010, Emeline Harris, the Vice president of the Production unit of
The New Heritage Doll company, was tasked with weighing up proposals of which
2 stood out significantly. The company is has sought to grow through its
customer loyalty however all proposals will be reviewed and evaluated by the
Budgeting committee. Emeline has to ensure that the proposal she puts forward
have compelling support or the committee will most likely decline the proposal.

2. The growth oppurtunities


2.1

The 2 Proposals : ( all calculations are $(000)

The 2 proposals that have been put forward to Emeline are


a) Design your Doll (DYD)
Design your doll put forward by the brand manger Elizabeth Holtz,
the proposal is to design dolls that match the characteristcis and
features of the owner. The approach will increase brand loyalty and has
a strong social message as well . There is a fair bit of investment and
software/hardware development required . she feels that this command
a premium price however the initial investement worl be high as is the
breakeven cost. This is in keeping with the companys USP. The project
has a long pay back, period, some untested elements in the production
and could damage the relationship with existing customers . the project
carried higher risk.
The upfornt investment in Fig 2.1
Fig 2.1
Design your doll clothing extension outlays -

b) Match my Doll (MMD) Put forwad by the brand manager, Marcy


McAdams, who belives that matching the dolls and childs clothing has
already been a success for summer and wants to extend the range to 4
seasons . She belives that this will be as successful as the curent line.
Her proposal includes maintaining premium pricing ans taking
advantage of the suppliers off-peak discounts.Given the success of

match my Doll clothing McAdams belived the project had moderate risk
.

Fig 2.2
Match my doll clothing extension outlays -

2.2

The method

The method that Emeline will adopt in keeping with the budgeting
comittees requirements, will be based on analysing the investment,
operationg profit but more importantly will be based on the discounting
cash flow (DCF) which will help us to detemine the Net Present Value
(NPV) of the proposal.

3. The Analysis :
The company needs evaluate productions runs ad volumes, manufacturing
costcomplications, development and technology cost , sensitivity on the
selling price of the completed good and the breakeven production
volumes.
3.1
The initial investmentWhen comparing the initial investment between the 2 proposals we
find the DYD has a much hihgher total cost $ 2291 $(000) than MMD .
See Fig 3.1
Fig 3.1
All this tells us that is that if
the company was using cost
as an appraisal process than
MMD, would be excepted
over DYD. However we need
to look at the returns of the
operating profit to see if the
company
is
generating
returns or losses or if
operating at breakeven point
and analyse to see if this
ongoing or will generated
profit through forecasting
beyond the breakeven point.

3.2

DCF and
Sensitivity
Analysis : ( taken
from 2010 to 2020)

When
making
an
analysis Emeline and
the
Budgeting
committee will consider the cash management through capital rationing
on whichever project the except . They will aslo look at the NPV
implementation to refelct the time value of the money invested in each of
the projects and in addition this will be further analysed through the IRR of
both the proposals that have been put forward.

Match My Doll : has medium risk as we have discussed above, so the


DCF will be 8.4% which will be applied. See the table below - Fig 3.2.1
( for details of the analysis please refer to Appendix 1.1)
Fig 3.2.1
Risk level

Rate

Low

7.7%

Medium

8.4%

High

9.0%

NPV
9304.5
7
7782.
97
6724.7
2

Payback
Period
5.85
5.85
5.85

IRR
27.56
%
26.63
%
25.94
%

To get the NPV, I have taken the cash flow after Terminal Value and a
applied the DCF rate at medium risk.
Because we have applied the DCF rate of 8.4% we can see through the
analysis that the NPV rate is $7782.97 . The NPV is positive so this project
is feasable. The IRR= 26.63%
Design Your Doll : is a long term project and has high risk as we have
discussed above, so the DCF will be 9.0% which will be applied to get the
NPV. See the table below - Fig 3.2.2 ( for details of the analysis please
refer to Appendix 1.2)
Similar to above, to get the NPV, I have taken the cash flow after
Terminal Value and a applied the DCF rate at medium risk.
Fig 3.2.2
Risk level

Rate

Low

7.7%

Medium

8.4%

NPV
12,356.
35
9,893.
93

Payback
Period
8.49
8.49

IRR
21.69
%
20.66
%

High

9.0%

8,187
.48

8.49

19.89
%

Because we have applied the DCF rate of 9.0% we can see through the
analysis that the NPV rate is $8187.48 . The NPV is positive so this project
is feasable. The IRR= 19.88%

We can see based on the analysis that both projects are have are feasible
however Design your Doll has the higher Net Present value than the Match
My Doll Clothing. However MMD has a higher IRR than DYD and its also has
a shorter payback period.

3.3

Operating Analysis :

( taken from 2010 to 2020)

We look into the proposal and the finanacial accounting further. We have
seen earlier that DYD has a higher initial investment that MMD (fig 2,1),
however it has a much higher operating profit than MMD. See Fig 3.3.1
( for details of the analysis please refer to Appendix 1.1 & 1.2)

Fig 3.3.1

Ultimately, the operating profit shows how effective a company is at


managing its costs, so it provides an evaluation of the strength of a
company's management. The margin is best evaluated over time and
compared to those of competing firms. A higher operating profit margin
means that the company is managing its costs well and earning more in
revenue per dollar of sales. Investopedia(2015). In this case DYD has the
upper hand.

We then look into Free cash flow and we find once again that DYD has a
higher FCF than MYD. See Fig 3.3.2 1 ( for details of the analysis please
refer to Appendix 1.1 & 1.2)
Fig-3.3.2

Free cash flow is most often defined as operating cash flow minus capital
expenditures, which, in analytical terms, are considered to be an essential
outflow of funds to maintain a company's competitiveness and efficiency
The"free" cash flow, which becomes available to a company to use for
expansion, acquisitions, and/or financial stability to weather difficult
market conditions. The higher the percentage of free cash flow embedded
in a company's operating cash flow, the greater the financial strength of
the company. Investopedia.com(2015) . Both companies provide a good
investment oppurtunity.

3.4

WCA & NWC Assumptions :

( taken from 2010 to 2020)

As metioned above we have used 3% as the minimum cash balance of


sales across both projects. From the revenue we have then derived the
minimum
cash balance for both companies and also calculated the total
NWC to establish if both projects are able to sustain themselves in the
short term . See Fig 3.4.1 (for details of the analysis please refer to
Appendix 1.1 & 1.2)

Fig 3.4.1

The Net working capital is the aggregate amount of all current assets and
current liabilities that is being used here to measure the short-term
liquidity of both projects, and can also be used to obtain a general
impression of the ability of company management to utilize assets in an
efficient manner.
In this case both DYD and MMD have net working capital figures that are
substantially positive, it indicates that the amount of short-term funds
available from current assets are more than adequate to pay for current
liabilities as they come due for payment. So conclusively both projects are
feasible and would be acceptable to Emeline and the committee.

4. Reccommendations & Conclusion

As discussed above DYD requires more initial investment as well a higher


working capital from the working capital requirements assumptions however its
will aslo generate a higher operating profit than MMD. We can also see that DYD
generates a higher cash flow compared to MYD and this makes it a better
investment at this stage.
We then look at this from an NPV view pont which shows the projects can
manage and utlise their resources effieciently and have addequate fund to pay
their current liabilities and allocating capital.
We also need to consider that NPV, utilises an assumed discount rate and that
this will remain stable for the life of the project, however interest rates do
flutauate in the real world. However in this sceanrio DYD has the higher NPV than
MMD and would be more likely to be choosen, howevr MMD is that far behind
making them both viable projects.
Finally we need to look at the internal rate of return (IIR)

is critical as it

determines the minimem rate of return that will be deliverded by the project
without looking at the DCF and is a key method in determining if the project is
acceptable.
The company will also be looking for the highest operating rate of returns with
the shortest payback period of the cost of capital, for the project to be accepted.
From the analysis, Match My Doll Clothing line has the higher IRR than the Design
Your Own Doll line and much shorter pay back period.
Both Projects are mutually exclusive from each other, are cash flow realted and
they compete with each other.
So we can conclude that ,both projects are a good investment and the NPV of
both proposals are not significantly different. DYD has a higher NPV, however
MMD, has a higher IRR, profitability index and a shorter payback period and this
would make it more attarctive to the budgeting committee so I would
reccommned this to Emeline Harris as the more favourable option .This is
supported by all my analysis above.

References :

Investopedia.com (2015),Should I look at a company's operating profit or net


profit?,available online at :
http://www.investopedia.com/ask/answers/032515/should-i-look-companysoperating-profit-or-net-profit.asp, [accessed on 10th May 2015}

Investopedia.com (2015), Flow/Operating Cash Flow Ratio,available online at :


http://www.investopedia.com/university/ratios/cash-flowindicator/ratio2.asp#ixzz3ZmWUazvc, [accessed on 10th May 2015}